One of things you need to do for your business is to determine the value of a customer. This is the lifetime income from that customer to your business and should include factors such as:
- Amount spent per year (minimum, maximum and average) on your products or services,
- Expected duration of relationship (min, max and average),
- If you have multiple levels of products/services you will also need to consider the likelihood of moving them up the value chain.
Now determine the fixed and variable costs in delivery your product or service. Fixed costs are those that you have regardless of how much you sell and variable costs are those that depend on volume. Don't include marketing or sales costs but include any administration or support costs.
Now take the lifetime value of your customer minus the cost of delivering the service (or product) over that period of time.
This is how much money you could make if it didn't cost you anything to sell your product and didn't have to pay corporate taxes.
Hopefully this is a positive number. If it isn't you probably don't have a valid business model.
This is how much a customer is worth to you in raw profit. It isn't really profit yet because it might actually cost you money to acquire customers unless you are very lucky and have totally automated the process at no cost.
Now decide how much desired profit you want from your business as a percentage. 10-30% is pretty typical based on normal risk factors. 100% and you are likely just stealing money from someone.
Take that percentage and multiply by the lifetime value of a customer.
Now take your raw profit number and subtract your desired profit.
If you have a positive number, that is how much you should be willing to pay to acquire each new customer. If you have a negative number (or too small of a positive number), you have to go back to your business model and either expect less profit, increase revenues or reduce costs (or a combination of all three).
The important points of this exercise:
- You need to start thinking about profit ahead of time… not just at the end of the year by looking at whatever is left over (i.e. pay yourself first). What you do with the profits is another matter.
- You need to know how much you are willing to pay per customer acquired based on real numbers rather than a hunch. This will help determine your optimum marketing and sales budget.
In the next few days I will talk about how to determine your marketing and sales budget from this number and how to engage your entire company and network in your marketing and sales process.